Investment nirvana?

Economists forecast that India will become the world’s second-largest economy by 2050. Here we examine some of the seismic reforms that are helping to transform this country of 1.3 billion people beyond recognition. 

Nehal Desai, Investment Manager, Rathbones

It is hard to grasp the epic scale of the reforms that have transformed the Indian economy in the past four years since Prime Minister Narendra Modi came to power.

Some see Modi as a visionary; others think he has been reckless. In November 2016, two years into his term of office, he appeared on national television to unveil a plan to crack down on the shadow economy and the use of counterfeit cash to fund illegal activity. His approach stunned everyone. He told viewers that from midnight, just four hours later, virtually all 500-rupee and 1,000-rupee notes — effectively 86% of the currency outside a bank branch — would be invalid and that the cash would have to be exchanged at banks for a new series of notes.

Chaos ensued. Long queues formed at ATMs. Indian stock markets fell 6% in one day as a nation that relied heavily on cash grappled with the challenge of exchanging old notes for new.

There is little evidence to suggest the measure helped reduce fraud, but it may have changed attitudes to cash. Avinash Vazirani, manager of the Jupiter India Fund, says: “99.9% of Indian households now have access to a bank account. It was less than 59% before Modi came to power — 324 million new accounts have been opened. Money is coming out from under the mattress and going into the banks, and people are not putting as much money into physical assets like gold and property.” Proportionally, more households have bank accounts in India now than in the US, where the figure is nearer 93%. Critics, however, would argue that many of the Indian accounts are actually empty.

It is still quite a transformation, though, helped by the astonishing speed at which internet and mobile phone coverage has penetrated nearly every corner of the country. One mobile phone network in India, Reliance Jio, which only started operations in September 2016, was consuming more data than all of the US mobile networks put together by spring this year. India has gone from being 158th in the world in terms of mobile consumption of data to number one in a matter of four or five years.

Another influential development has been India Stack — a set of open application programming interfaces designed to create a unified software initiative that is enabling India to embrace the digital age as wholeheartedly as any developed nation. Its most controversial aspect is the storing of biometric data, such as fingerprints, for every citizen — the biggest biometric identity project in the world. It has led to privacy protests and complaints that older people with worn-out fingerprints are being denied government services, like rations, because their fingerprint ID does not work.

For many, though, it has opened up the opportunity to have digital lockers for personal records, e-signatures and online wallets. It has enabled them to open bank accounts in seconds and use banking phone apps.

One of the biggest benefits of India Stack has been the development of a “unified payment interface” that allows Indians to make instantaneous payments for free. Visit an Indian vegetable vendor in the street today and it is not uncommon to see a QR code on a post near the front of the stall. To pay you simply take a picture of the QR code on your phone and press a button: the money goes straight to the recipient, who receives a message seconds later to confirm the payment has been received.

Vazirani says: “As small traders begin to conduct transactions digitally they develop a digital footprint. This is really good for getting credit, so the cost of accessing credit and demonstrating creditworthiness has come down. Many relatively poor people are now able to access credit, and that can free them to invest and grow their businesses. We’re at the start of a journey that could be very exciting.”

Modi’s other major reform has been the introduction of a nationwide Goods and Services Tax — India’s first common market sales tax. It replaced a messy tangle of national and local levies and duties.

The tax is not as simple as it might be — there are six different rates — but it has enabled India to close down the checkposts at internal state borders, where lorries carrying goods were often left languishing for hours. This is significantly reducing logistics costs and supporting economic growth.

The combination of the new tax and the increased use of banking is also leading to growth in the number of people actually paying taxes, though it is still only 5% of the Indian population that file an annual income tax return.

The problem of poverty remains — over 64 million urban Indians live in extreme destitution. But the number is falling rapidly. Modi is developing a health insurance system that aims to cover 500 million people eventually. Again, the system has critics, who express concerns about the lack of health service providers and the corruption of those that do exist.

Other Modi schemes, launched with great fanfares, have failed. These include Smart Cities, Cleaning the Ganges and Clean India. Government officials privately admit that half the lavatories built to replace open defecation do not work.

Vazirani understands the criticisms but focuses on the positives. As more people escape poverty and begin earning, the opportunities for investors grow, he says. He cites the example of Gillette, which has spent millions on advertising to establish itself as the only pan-India shaving brand.

He says: “Here's a country with 670 million men, 45% under the age of 25. They are hugely aspirational, all moving up from earning a few dollars to a few more dollars a day. What will they buy? Gillette — and for years to come, in my view. A similar story applies to Procter & Gamble Hygiene and Healthcare, which has an 80% share of sanitary towels — only 15% of women use them, but usage is going up. These companies are at an inflexion point of growth that looks like an S-curve. A lot of the Indian economy is at the start of the S-curve and has huge growth ahead of it.”

More recently, rising oil prices have set back India’s growth. Around 80% of India’s oil consumption comes from imports, which makes the country vulnerable when the oil price is high. The strong dollar — used to price oil — is not helping. Mainstream Indian markets have taken a sharp correction since the summer — down close to 20%. And the Indian currency has depreciated as much as 14% against the US dollar so far this year.

Yet Vazirani sees these as short-term threats. Other indicators suggest the Indian economy is more robust than the markets are pricing in at the time
of writing. India is close to balancing
its books for the first time since the financial crisis of 2008/2009. And personal indebtedness levels look much healthier than those in most developed markets: India has a 30% gross domestic savings ratio — as a proportion of GDP — compared with around 16% in the UK.

Vazirani concludes: “If you look beyond the next one or two years there is a clear growth runway ahead of India — and it is huge. How could I not feel excited?”

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